Managing Legal Malpractice - Chubb Group of Insurance Companies

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Transcript of Managing Legal Malpractice - Chubb Group of Insurance Companies

Managing Legal Malpractice:
©2005 Chubb & Son, Inc.
M A N A G I N G L E G A L M A L P R A C T I C E :
A P R O F E S S I O N A L L I A B I L I T Y R I S K M A N A G E M E N T H A N D B O O K
F O R L A W Y E R S
T A B L E O F C O N T E N T S
Introduction ........................................................................................2
Firm Structure ..............................................................................6
Partnership/Shareholder Agreement ..............................................6
Financial Management ..................................................................7
Money Management and Investment Advice................................22
Risk Financing and Risk Transfer........................................................23
Conclusion ........................................................................................25
1
I N T R O D U C T I O N
Legal Malpractice
Improper, negligent or unethical conduct or treatment by a lawyer.
(The American Heritage Dictionary, Third Edition)
Myth—I won’t be sued for legal malpractice
Reality—Attorneys in private practice have a 4% to 17% chance of being
sued for malpractice each year, depending on their jurisdiction and area of
practice, according to the American Bar Association’s (ABA) Lawyer’s Desk
Guide to Legal Malpractice.
Myth—My firm is well-run. I don’t need legal malpractice insurance.
Reality—Even well-run law firms can be sued. If
your firm is sued, not only does it face financial
and reputational risk, but its directors and
officers may be personally liable. Sound
corporate governance requires directors and
officers to act in good faith and in the best
interest of the organization. With respect to
managing corporate risks, this means providing
direction and supervision to ensure management 1) understands inherent
risks and their potential impact on the organization and 2) dedicates
appropriate resources and responsibilities to ensure these risks are mitigated
and, where they cannot be mitigated, transferred or otherwise financed.
2
survive. The guiding principle of
business economics is not the
maximization of profit. It is the
avoidance of loss.”
—Peter Drucker
Myth—My firm is protected. I buy insurance, so I have transferred the risk
to the insurance company.
Reality—Insurance only covers the direct costs of a malpractice suit,
damages, and defense costs. A law firm has much greater, uninsured costs
associated with malpractice suits. These may include, but are not limited to:
nn The self-insured portion of the claim.
nn Injunctive or non-monetary relief.
nn Any uninsured fines, penalties, or fees returned or ordered disgorged.
nn The cost of correcting, reperforming, or completing any professional
services or any other restitution.
nn Lost time and productivity.
nn Possible costs to hire temporary staff, outsource, or otherwise make up
for lost production.
nn Time spent in internal investigations and claims management and
with the insurance company.
nn Increased cost of, or difficulty obtaining, legal malpractice insurance
going forward.
nn Deteriorating partner relationships within the firm.
nn Reputation injury and possible professional discipline of the firm
and/or attorneys involved.
3
All of these potential consequences must be factored into the true cost of
malpractice suits. Experience suggests that the relationship between direct
and indirect costs is 1:4—for every insurable dollar, four dollars are
uninsured (and this ratio does not include the cost of reputation injury).
Risks to the Firm
Legal malpractice claims can occur in good or bad economic times.
During good economic times, the size and number of engagements accepted
by law firms trend upward. In such an environment, attention to detail may
falter, management oversight may be overstretched, and time for training
and supervision is often reduced, creating increased potential for errors that
might lead to claims.
Equally, when economic times aren’t so good, and matters go badly, those on
the losing end look for someone to blame, preferably someone with “deep
pockets.” So found a 2001 study of legal malpractice claims by the American
Bar Association (ABA), which reviewed claims information from 23
malpractice insurers from 1996 to 1999. According to the study, some
practice areas and activities present more exposure to malpractice than
others: 24% of the claims reviewed arose from plaintiff personal injury law
practice; 17% from real estate cases; 10% from family law; 9% from estate,
trust, and probate work; 9% from corporate/business organization work; and
8% from collections and bankruptcy cases. Most claims arose out of
preparation, filing, and transmittal of documents (25%), investigation other
than litigation (17%), commencement of action or proceeding (16%), and
title opinion activities (13%). Additionally, and more recently, securities and
intellectual property malpractice claims have increased in both frequency
and severity.
Avoiding these claims is often a matter of risk management and of practice
management—which should be one and the same. This handbook offers
some advice for maximizing the benefits of law firm risk management.
4
A thoughtful legal malpractice risk management assessment and plan should:
1. Define the risk appetite (risk tolerance) of the firm.
2. Identify potential risks to the firm.
3. Evaluate and prioritize these risks according to the relative likelihood
of an event and the potential severity of an event’s impact on the firm
in the context of the firm’s risk appetite.
4. Implement risk mitigation strategies.
5. Purchase adequate insurance to transfer those risks that pose a
significant threat to the firm’s financial stability.
6. Monitor and update risk mitigation strategies appropriately as firm
priorities and its operating environment change.
5
F I R M O R G A N I Z A T I O N A N D M A N A G E M E N T S T R U C T U R E
Firm Structure
Practice management, and therefore risk management, begins with properly
designing the legal ownership structure of the firm and its attendant
formation documents (partnership or shareholder agreements). These
agreements should be consistent with the firm’s business strategy and
philosophy—including a management structure that will support the firm’s
business objectives. For example, if top quality legal work is a business
objective of the firm, their compensation arrangements should not
excessively reward origination. Firms with well-written owner agreements
that clearly define management structure, duties, and responsibilities are less
likely to experience malpractice claims.
Partnership/Shareholder Agreement
The following checklist presents some key items to consider when drafting a
partnership/shareholder agreement:
nn General structure of the firm, including a risk management partner or
(in larger firms) a general counsel or the assignment of those
responsibilities.
nn Compensation scheme. (This should reward more than origination
and billable hours. For example, staff training and supervision are
critical to the risk management of the firm.)
nn Income distribution.
nn Disability of partners/shareholders.
nn Capital accounts.
nn Voting, including special majority provisions, such as the method of
election of new partners, borrowing thresholds/caps, relocation,
negotiating leases, opening of new offices, etc.
nn Management structure and terms of service for managing body(ies)
including frequency and intended scope of meetings, nature and
number of committees, etc.
heads.
nn Management of legal staff and allocation of resources.
nn Management of non-legal staff and allocation of resources.
nn Employment practices and procedures.
nn Dissolution of the firm.
Financial Management
particularly fee disputes with clients. The well-run firm minimizes the
potential for such disputes. Following is a selection of best practices for
accomplishing this; many of these suggestions can be supported with work-
tracking and time-utilization systems:
nn Establish and manage revenue and expense budgets in accordance
with the firm’s business strategy and philosophy.
7
nn Establish realistic hourly rates reflective of attorney experience and
practice specialty.
engagement letters before work commences.
nn Establish and enforce effective time-keeping and recording procedures.
nn Maintain a volume of business that keeps firm attorneys gainfully
occupied with billable client matters.
nn Manage work assignments on all individual client matters so that
excessive hours and billing are not required.
nn Bill frequently (monthly), avoiding large outstanding receivables.
nn Manage collections, including prompt follow-up on overdue bills, and
restrict individual partners’ freedom to continue to work on matters
that are more than 90 days in arrears.
nn Audit using external auditors at least annually.
nn Establish protocols for handling client trust funds, cash receipts, stock
and other negotiable instruments, and all other client property held
by the firm. In particular:
n Prohibit the co-mingling of client funds.
n Require two signatures on client fund accounts.
8
I N T E R N A L P O L I C I E S A N D P R O C E D U R E S
General Checklist
A well-managed office that effectively supports the firm’s structure and
business strategy is second only to the partnership agreement in practice
(and therefore risk) management importance. The following questions may
help in evaluating and/or developing basic risk management systems and
practices that are appropriate for your firm:
nn Does the firm have a full-time office administrator/manager?
nn Does the firm maintain a formalized risk management program?
nn Does it maintain a firm-wide risk management manual?
nn Does a partner or someone else act as the firm’s risk manager?
nn In the past two years, have the firm’s risk management procedures
been audited by an outside risk management specialist?
nn Does the firm share office space with, or sublet office space to, any
attorneys who are not employees?
nn Does the firm ever subcontract or refer legal work of any kind to
other law firms or outside attorneys?
nn Does the firm maintain an off-site location for maintaining or storing
duplicate computer records?
nn Does the firm have a disaster recovery plan in place in case its current
space is rendered unusable?
Review your responses to these questions in light of the factors outlined in
the discussion of risks to the firm on page 5 to make sure that the firm’s
risks, its appetite for risk, and its risk management practices are aligned.
9
Client Intake
It is the rare law firm that can be all things to all people. Therefore, it isn’t
reasonable—or advisable—that a firm accept every potential client who
walks in the door. It is important that a firm screen out cases that are high
risks or simply can’t be handled because the firm doesn’t have the manpower
or the expertise. A formal client intake process should address the following
four questions.
1. “Do I have the expertise needed to handle this matter?” General
practitioners should ask this question whenever faced with a new business
opportunity. If the case requires knowledge of a specialty practice area, it
should probably be referred to counsel specializing in that area. Specialty
practice areas that usually require expertise and present greater malpractice
exposure can include:
nn Mergers and acquisitions
nn Plaintiff personal injury
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nn Securities
nn Tax
2. “Do I have the capacity to handle this matter?” Attorneys with
unmanageable caseloads are apt to miss deadlines and have claims arise
alleging inadequate preparation, document filing, and investigation. It is up
to the firm to determine whether it has the resources to handle any given
matter that presents itself.
3. “Are there any potential conflicts of interest?” Maintenance of a
conflict-of-interest database facilitates this process. Such a database should be
kept up to date and searched whenever a new client or matter is brought to
the firm. Furthermore, it should be rechecked for conflicts whenever new
parties are brought into a case since lateral hiring of attorneys may create a
conflict.
Having no system or methodology for maintaining client lists and avoiding
conflicts of interest—i.e., relying only on oral contacts and memory—is an
unacceptable control mechanism. It is recommended that the firm use a
computerized system to maintain client lists and to help it avoid conflicts of
interest. Characteristics of such a computer system include the following:
nn It should be centralized, with firm-wide access.
nn All branch offices should be integrated into the system.
nn The database should be indexed by:
n Client’s name.
n Client’s subsidiaries.
nn Data should be backed up and stored off site.
For more about conflicts of interest, see “Specific Conflict-of-Interest Areas”
on page 16.
Another step the firm can take to help it identify and avoid conflicts of
interest is to generate a new-business report to circulate throughout the firm
prior to acceptance of an engagement. Attention should also be given to
conflicts arising from corporate formation work completed for entities with
more than one owner, who at first are not adverse to each other but may
become adverse over time. Similarly, the firm should clearly identify whether
the firm is representing a corporation, its owners, its directors and officers,
or all of the above. If the answer is all of the above, be mindful of potential
future conflicts arising, even if they have not yet arisen at the time of
corporate formation.
4. “Is this a desirable client?” A significant number of suits arise out of fee
disputes, so the client’s financial ability to comply with the fee agreement is
critical to avoiding suits, as well as to the efficient operation of the firm’s
collection department. Besides inability to pay, a potential client may be
undesirable for other reasons. Does the client have unrealistic expectations of
the potential outcome? Is the client argumentative or confrontational? Are
you only the most recent in a string of attorneys who have turned down the
client’s case? Does the client have a history of suing lawyers or other
professionals? Any “yes” answers should be red flags in the client intake
review.
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The Role of Management in Client Intake:
Management is crucial to effective new client intake. No individual partner
should be able to unilaterally approve any proposed client engagement
without some level of independent review by the firm to assure that it meets
the firm’s criteria for acceptability. The firm’s client intake policies and
procedures should require or provide that:
nn New client acceptance requires approval from at least one partner (in
addition to the “introducing” partner), the management committee,
or the standing committee of the firm charged with overseeing such
matters;
nn A firm-wide communication is sent advising firm employees of the
proposed engagement prior to the acceptance of the new client;
nn A credit check is performed on the new client prior to acceptance;
nn A background check (including pending and/or prior litigation
involving the new client) is performed on the proposed new client
prior to acceptance;
nn A conflict-of-interest check is performed on the proposed new client
prior to acceptance;
nn Written procedures exist for handling conflicts of interest once they
are determined; and
nn Once a conflict of interest is identified, acceptance of the new client
requires the approval of the risk management partner, general counsel,
or the standing committee charged with overseeing such matters.
Finally, the firm should have policies and procedures in place for addressing
the outcome—whether accepted or declined—of the client intake review
process. Practice management policies should specify the nature of work that
13
can be accepted and procedures should be instituted to ensure compliance
with such policies. Identifying those engagements to be avoided, and
delineating the reasons in a “paper trail,” are critical to avoiding future claims.
Where representation is accepted, an acceptance or engagement letter should
clearly outline the terms of the engagement, including fee arrangements.
Where representation is declined, a non-engagement letter should make it
clear that the firm will not represent the party and accepts no responsibility
for the case. Non-engagement letters are especially appropriate if a
prospective client has met in person with a firm attorney to discuss such
representation. Additionally, the firm should promptly return all belongings
and paperwork to prospective clients whom the firm declines representing.
Engagement Letter Tips:
nn Required for all new clients.
nn Notice letters required for all new matters for existing clients.
nn Countersigned letter must be received by firm prior to
commencement of work for the new client.
nn Standardized firm-wide (or practice group- or department-wide)
letters, customized for each client.
nn No manuscripting of engagement letters by individual attorneys
without review and approval by the risk management partner, general
counsel, or the standing committee charged with overseeing such
matters.
nn Use is not at sole discretion of attorney responsible for the client.
nn Firm’s policies and procedures for engagement letters should be in
writing, regularly circulated, and explicitly expressed at the orientation
of all newly hired attorneys, especially lateral hires.
14
Non-Engagement Letter Tips:
nn Required in all cases where representation is declined, especially after
meeting prospective clients in person and when statute-of-limitations
deadlines are imminent.
nn Use is not at sole discretion of attorney declining representation.
nn Sent by regular mail and by certified/registered mail.
nn Does not itself constitute the rendering of legal advice, such as
referring to the applicable statute of limitations.
nn Firm’s policies and procedures for non-engagement letters should be
in writing, regularly circulated, and explicitly expressed at the
orientation of all newly hired attorneys, especially lateral hires.
Disengagement Letter Tips:
nn Required in all matters at conclusion of representation.
nn Use is not at sole discretion of attorney responsible for client.
nn Sent by regular mail and certified/registered mail.
nn Includes discussion of firm’s file and document retention and
destruction policies.
nn Firm’s policies and procedures for disengagement letters should be in
writing, regularly circulated, and explicitly expressed at the orientation
of all newly hired attorneys, especially lateral hires.
Note: The firm’s policies and procedures should also require that clients be
informed in writing of the engagement of third parties’ services.
15
interests in, or entering into other commercial relationships with, for-profit
business enterprises that are clients of the firm (or that are involved in
business transactions with clients of the firm) may have a conflict of interest.
The firm should develop and enforce a policy with respect to such client
involvement. At a minimum, such a policy should include the following
elements:
nn Attorneys are not permitted to have commercial relationships with
clients of the firm or to be officers or directors of clients of the firm.
Such relationships are permitted only with the approval of the
managing partner, management committee, or the standing
committee charged with overseeing such matters.
nn If the firm acts as counsel to the issuer or underwriter of an initial
public securities offering, neither the firm nor any partner or
employee are permitted to invest in the original IPO allotment.
nn If the firm acts as counsel in any form of corporate or asset
acquisition, neither the firm nor any partner or employee are
permitted to accept any “finders’ fees.”
nn If the firm acts as counsel to the issuer or underwriter of any public
offering of securities, it may not accept stock in lieu of cash fees.
nn If the firm or any partner or employee already owns securities of a
company that is about to make an IPO, then the firm may not act as
counsel to the issuer or underwriter of the securities.
16
Representing multiple parties—Firm lawyers may find themselves involved
in situations where they are asked to represent more than one party in a legal
matter, a situation with strong potential for a conflict of interest. The firm
should develop and enforce a policy for such situations, to include the
following elements:
nn Acceptance of multiple parties is prohibited without review and
approval by the risk management partner, general counsel, or the
standing committee charged with overseeing such matters.
nn Avoid joint representation if there is any possibility that a conflict may
arise.
nn Disclose your representation to both parties and seek permission from
both before accepting the engagement. Do not proceed without
permission from both parties.
nn Fully disclose to all parties any possible conflicts, their importance,
and the lack of confidentiality between parties on matters of joint
representation.
nn…